The opportunity to redevelop the real estate industry such that it contributes to the solutions the world is seeking, instead of continuing to pile on to the multitude of challenges, is huge. Such challenges include the energy crisis, climate change, natural resource preservation, population growth, urban sprawl with ineffective infrastructure, and a lack of sustainable growth practices. Those with the courage to see these opportunities and act upon them quickly will realize tremendous competitive and economic advantages.

Indulge me for a moment as I try to integrate the big picture of how the real estate industry can play a significant role in addressing the challenges we face as global citizens. Then, I’ll offer some details and specifics that outline a new approach to real estate.

Tom Friedman says in his book Hot, Flat, and Crowded, “We Americans are in no position to lecture anyone. But we are in a position to know better. We are in a position to set a different example of growth. We are in a position to use our resources and know-how to invent the renewable, clean power sources and energy efficiency systems that can make growth greener. If we, as Americans, do not redefine what an American middle-class lifestyle is – and invent the tools and spread the know-how that enables another two or three billion people to enjoy it in a more sustainable fashion – we will need to colonize three more planets.”

Real estate investors and developers play a huge role in how communities and cities are constructed, how buildings utilize energy, and what infrastructure and transportation is necessary to connect where we live to where we work, shop, and play. Without drastic changes in how we construct and live in our communities, what’s left of America’s competitive advantage in real estate will continue to fade. Others will take the lead in creating the technology and investment and development models that allow populations and standards of living to grow in sustainable ways that are also grounded in the pursuit of happiness and wellbeing for oneself and the rest of the world.

The global economic crisis should represent the perfect opportunity and context in which to effect meaningful change, unfortunately little is different today than it was 5 years ago in an industry that has endured massive losses over the last 2 years. The only changes fund managers (who ultimately control where and how capital is deployed) appear to be making are to appease their investor base with executive musical chairs, token fee reductions, and maybe a claw-back clause. Their plan is to ultimately convince investors that the world will soon get back to normal. Some fund managers are even sitting out a round or two of fundraising in order to avoid setting a precedent of unfavorable terms with their investors. These kind of non-structural changes or avoidance strategies will, unfortunately, not bring a new mindset, new strategies, creative partnerships, and the innovative models that are needed in the dynamic and interdependent world in which we all now reside. The pace of global change is so great, that the concept of “normal” may eventually become obsolete.

Investors, on the other hand, realize they have been paying too much to fund managers who, quite frankly, have lost their edge, allowing their value proposition to shrink to an almost unrecognizable point because such a large portion of profits have been driven by extremely favorable financing terms. Because investors rely on the income from their investments to fund whatever it is that they do (pensions, universities, etc.), they need to make commitments and keep the economic wheel turning. And, with so few new choices, many institutional investors are forced to give in to what fund managers are offering.

Large institutional investors have more power today than they realize, and with the right leadership they could help re-shape the industry for the better. Relying heavily on a previous track record as an indicator of likely success, in a future that will undoubtedly look quite different than the past, may not be the best strategy. A better bet may be fund managers that are more adaptable to change, that are more willing to present structures which focus on creating long-term value, and have a desire to begin working toward sustainable and energy efficient strategies of investing and development. When assets are viewed in terms of creating economic, social, and ecological value, growth is more balanced and sustainable and less susceptible to large swings in the financial and capital markets.

Suburban sprawl with carbon copy retail centers, minimally constructed housing developments, and energy-gorging apartment complexes are all simply unsustainable and will not work for the future. They are also poor examples to set for emerging markets that have to figure out how to support a net increase of 3 billion people over the next 40 years and typically look to America for answers.

The real estate industry will have to evolve because we are rapidly approaching the tipping point where it is economically advantageous to create and embrace new types of value. The real question is who will be the first group to realize just how incredible this opportunity is for those with the courage to change. Detailed below are two areas in which I believe the real estate industry can make great strides and become the leader the world needs in building more efficient communities that promote healthier lifestyles and sustainable living.

First, we must start with an investment model that is focused on creating value instead of creating fees. The days of creating a majority of profits from financing arbitrage while collecting huge fees and adding very little value are over (or at least they should be over). Those who can design integrated investment models that eliminate the double promote and have a viable long-term strategy that includes some elements of sustainability will have a tremendous competitive advantage.

Second, we must build asset management strategies that not only address the needs of capital but also begin to address the energy and climate conundrum we are all facing, offer end-users options that help solve their daily problems, and are congruent with the direction local municipalities and communities are headed. Typical asset management models are based on a pyramid structure driven by a chain of command. An integrated asset management model, as depicted below, puts the asset at center stage and focuses on adding value by integrating end user needs, investor needs, social needs, and environmental needs into one cohesive strategy.

An integrated asset management model is all about adding value. For example a C class apartment complex that provides residents with free parenting classes, free money management classes, and partners with a local non-profit that provides a mobile medical clinic to families that cannot afford healthcare, will enjoy the highest occupancy rate in its market. Alternatively, a high end retail center whose tenants all relate to health and fitness, sponsors weekend community races and farmer’s markets, will be able to charge a premium, because tenants will insist on being where the action is. Or how about an office complex that caters to “green” businesses that are happy to pay a premium because the building is carbon neutral and net positive on energy. These are just a few examples of a multitude of creative strategies available in an integrated model that views value through a multiple lenses.

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What story?  That’s the problem . . . commercial real estate development in the past several decades has lacked a story.  A few have gotten it right, but many have not.  Most of it is boring, boring, boring and it is all starting to look the same.  When the commercial real estate market comes back, those who dared to be different and provide something new will be the clear winners.

Too many of the deals that were done in the past 6 years only made their investment hurdles because of the nice arbitrage that existed in financing the deal at a very high loan-to-value ratio and little recourse to anything except the underlying property.  I’m afraid those days are over, which means that new real estate deals are going to have make sense and work standing on their own.  If the financing isn’t going to get you over your hurdle, what will?  Stronger, better, and deeper connections to the users and their communities is what I would bet on.

Someone recently asked me what I would do if I had access to capital and had to use it to invest in commercial real estate.  My answer . . . I would focus on redevelopment and seek out opportunities where none of the competition has a story or something extra of value to offer.  I would probably also pay attention to the areas where a city transitions from urban to suburban.  There is a lot that can be done in a re-development in that kind of an area.  You have the opportunity to attract people from both the urban side and the suburban side.  The key is attraction.  Forget about doing the same thing that worked so well on the other side of town.  Find your courage and set out to do something unique and meaningful.  Get out and talk to people, find out what they want in an office building or a retail center.  Throw some ideas out; see what kind of reaction you get.  Study how people live and aim to give them something of value.

Suburban development has been fraught with big-box, poorly constructed, cookie-cutter, concrete havens that are only really attractive to the black birds because there are now 100 more small trees equally spaced in the parking lot to hang out on.  There is probably not going to be a lot of this stuff going up new for a while, but if you are thinking about it, or considering investing in one, please take a trip to Europe.  I’m certainly not advocating that we all start to model ourselves after Europe, but at least have a look around and realize that development can have a story, be interesting and attract people simply for its “hang-out” factor.  It doesn’t have to be extravagant or expensive to be appealing.  It just has to be a cool place where you’d like to hang out.

The reality is that we’ve all gotten over the “Wow” factor of being able to walk into huge stores and see merchandise stacked 30-feet high up to the ceiling.  Most of us are now looking for quaint, relaxing, different, more natural and smaller.  We want something that is inspiring and has more meaning.  We are tired of boring concrete . . . concrete . . . concrete.  We are especially tired of those stores where they try to fake you out with a fancy front.  Once you look behind the façade, you realize it was just a fake out; they were too cheap to build something with real character.  Have the guts to be what you are trying to be.

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